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This article has been written by Roshni Parsija, pursuing the Diploma in M&A, Institutional Finance and Investment Laws (PE and VC transactions) from LawSikho.

Introduction

For any company or for any kind of business their assets are of great importance because assets of the company help to calculate the value of the company. In simple words, assets are those resources that help in valuation, or which company owns or use to run their business they are basically what company or business uses for themselves by owning them. 

Assets can be mainly of two types either tangible or intangible assets. Tangible assets are those which have physical existence like machinery, furniture, property etc. and intangible assets are those assets that do not have a physical existence but they add value to the business like trademark, licenses, goodwill etc. 

Companies have to maintain their assets in a proper way. They have to be updated about the status of the asset because one of the high amounts of valuation of the company depends on it. Companies use their assets either to create products or to provide services or to lease their assets and earn profits and one of the major places where assets of a company are used is to keep them as collateral for raising loans or funds for the business.

What is a distressed asset?

To understand the meaning of the term distressed asset it can be said when the value of the asset falls or decreased but not because of the market condition but due to issuer fault eg. If a company has taken the loan and is not able to repay the principal amount and interest amount then it will be a distressed asset or if the company is on the stage of bankruptcy.

In India, from the last few years, this distressed asset investment is promoted by many investors because now after IBC and other laws investors feel protected to invest their money in stressed assets. National company law tribunal NCLT has also faces new challenges due to this concept. 

Distressed assets investment is attracted because they provide high value at low cost. This is the main reason why people want to invest in distressed assets. The investor can take the advantage of this by turning the table around. To take advantage of distressed asset and make money out of it needs a lot of planning because this involves a lot of knowledge of the business in which the person is investing and also the plan that how he is going to make a profit out of it because this investment either can take the investor to the highest point or to the lowest point.

Who invests in them?

In distressed assets mainly big corporates plan to invest as investing in distressed assets is high risk and it involves large amounts so small businessmen cannot afford to take risk at this level. According to SEBI regulations, the minimum ticket size for an investor of distressed asset funds is Rs.1 crore and the number of investors in any scheme cannot be more than 1,000. 

Conditions for investing in distressed assets are:

  • Distressed assets are like alternative investment funds so they invest mostly in listed companies.
  • They can be bought for a temporary period.

How does it work?

As there is no strict rule for how distressed assets work but in general it can be said that the discount is provided from 20 percent to 80 percent. Investors can face loss if the company goes bankrupt its the responsibility of the investor to turnaround the situation. 

The distressed asset investor does get the preference at the time of payback even before shareholders and employees they are preferred. This process can also result in creditors taking ownership of a company, which can allow them to make even more of a profit if they are able to turn the company’s finances around. 

Points which need to be considered before investing in distressed asset: 

Risk 

When an investor invests in a distressed asset it implies that he is taking a very high risk as for anybody to invest in a company that is bankrupt and in great losses will be a huge risk. As to invest in this kind of investment a person needs to know and have a plan which he has to execute because if he invests where there is already the stage of winding up of the company then it will be the worst decision.

Reward 

Investing in distressed assets can be the best chance to earn profit as already that company is going in losses and they will provide a huge discount as they cannot sell that on the same price then it is on the investor who can click the idea and then convert this chance to earn huge profit out of it.

Consultation with expert 

When investing in distressed assets or distressed companies it is important before investing to consult with the expert who can analyze the situation and identify whether it would be profitable to invest in that particular asset or company or not.

Due diligence

Before investing anywhere what is the most important task which is done by the investor company even before entering into any kind of agreement to execute any further dealings is the due diligence of the company who is the owner of a distressed asset. It is an important criterion which is to be done. Lawyers who have a vast knowledge of legal backgrounds can check whether they abide by all the laws and regulations which is made in that particular area in which they work, chartered accountants and others are going to check the financial background of the company whether the company has the potential to use the distressed asset into huge profit if investor invests in that asset.

Robust incentive framework

Investors must set up a robust and fair incentive structure for each stakeholder in the turnaround story. Equity earn-outs for promoters have worked well in the past, according to experts. Misalignment of stakeholder interests can derail restructuring initiatives, potentially squandering away invested capital. Although space is seeing a flurry of activity, there are caveats that apply. There is money made, however, the risks, whether related to legal, operational or valuation issues cannot be ignored. 

ArcelorMittal Acquisition of Essar steel was an investment in the depressed asset?

In 2019 one of the largest acquisitions which was announced was ArcelorMittal which is the world’s largest steelmaker acquired Essar Steel which also became one of the best deals of 2019 in India and second-largest steel in the year 2019.

This acquisition was a well planned and strategic step that was taken by ArcelorMittal as India is the market where everyone wants to hold a position due to its growth and development it is one of the most flourishing markets for the industrialist to earn a profit. As Lakshmi Mittal added that for them both India and Essar is a huge investment which is definitely going to bring profit in the long term as he added India for steel there is a high demand as well as better resources to produce so this investing in this depressed asset can be a turnaround for the ArcelorMittal.

This acquisition bought closure for the corporate battle as Essar steel owed the debt of Rs 49,000 crore to many banks. The highest amount owed was to the State Bank of India around Rs.15,000 crore and other banks like syndicate bank, Punjab national bank and many more. As this debt involves a very large amount so the acquirer has already initiated the payment of Rs.42, 000 crore which made the highest recovery under the Insolvency code. After this payment, the Supreme Court set aside the order of the National Company Law Tribunal.

So this is one of the biggest examples of how you can earn profit by investing in distressed assets and taking advantage of situations.

Conclusion

If we see today’s situation this investment in depressed assets is going to increase because of the COVID-19 pandemic. As from last 6 to 8 months due to lockdown in countries many people have lost their jobs, many factories and companies are facing losses due to less in demand and operators’ assets are not being used. They are just lying unused due to which their real value is only depreciating. These situations somewhere support this investing in depressed assets because many companies run on loans taken by banks or from other places they have to pay interest amounts which are not able to due to no earnings.

So this COVID-19 can give the opportunity to people who have a large investment to put their money in a depressed asset which can create huge profit if the table is a turnaround and in pandemic times many people are going to this because in this they will get the asset at low price and can earn with that double if it is used in a proper way that will take some time but the profit will be higher than an investment at least twice of it.

The profit depends on how the investor takes advantage of this situation and how well he can utilize the asset in the best possible way.


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